IRS Updates FAQs on Employee Retention Credits for Acquisitions of PPP Borrowers

On November 16, 2020, the IRS posted two new frequently asked questions (FAQs) on the Employee Retention Credit (ERC) created under Section 2302 of the Coronavirus Aid, Relief, and Economic Security (CARES) Act.

The new FAQs clarify how eligibility for the ERC is affected when an employer acquires an entity that has received a loan under the Paycheck Protection Program (PPP). Employers (determined on a controlled or an affiliated service group basis using IRS rules) that obtained a PPP loan are generally ineligible to claim the ERC (regardless of whether the PPP loan has been forgiven). However, new FAQs 81a and 81b clarify that employers that use the ERC generally can continue to do so even if they acquire the stock or assets of an entity that has a PPP loan. Slightly different rules apply to asset purchases and stock acquisitions.

Although FAQs cannot be relied upon as legal authority, they indicate the IRS’s current thinking on issues.

 

Background

The ERC is designed to encourage employers (including tax-exempt entities) to keep employees on their payroll during the period March 27 through December 31, 2020. The ERC is a refundable tax credit equal to 50% of up to $10,000 in qualified wages (i.e., a total of $5,000 per employee) paid by an eligible employer whose operations were closed due to a COVID-19-related governmental order or whose gross receipts for any 2020 calendar quarter were less than 50% of its gross receipts for the same quarter in 2019. Each payroll period, employers may subtract the ERC from the employer’s portion of payroll tax deposits and retain (rather than remit) that amount. Employers that do not have sufficient payroll taxes to self-fund the ERC can request an ERC refund on IRS Form 7200.

 

SBA Notice on “Change of Ownership”

The new IRS FAQs generally track the October 2, 2020 notice released by the Small Business Administration (SBA) regarding changes in ownership of PPP borrowers. One important difference between the updated ERC FAQs and the SBA notice is that the ERC uses the Internal Revenue Code rules for determining controlled groups and affiliated service groups, whereas the SBA notice defines a “change of ownership” as any of the following:

• At least 20% of the common stock or other ownership interest of a PPP borrower (including a publicly traded entity) is sold or otherwise transferred in one or more transactions, including to an affiliate or an existing owner of the entity.
• The PPP borrower sells or otherwise transfers at least 50% of its assets (measured by fair market value) in one or more transactions.
• A PPP borrower is merged with or into another entity.

 

Two New FAQs

The text of the two new IRS ERC FAQs reads as follows:

81a. How is eligibility for the Employee Retention Credit affected if an employer acquires the stock or other equity interests of a target employer that had received a Paycheck Protection Program (PPP) loan and, under the aggregation rules, the employers are treated as a single employer as a result of the transaction? (added November 16, 2020)

The following rules apply for purposes of determining whether an employer (Acquiring Employer) that acquires the stock or other equity interests of an entity (Target Employer) in a transaction that results in the Target Employer becoming a member of an aggregated group with the Acquiring Employer that is treated as a single employer under the aggregation rules (the Aggregated Employer Group) is eligible for the Employee Retention Credit on and after the transaction closing date.

PPP loan is fully satisfied or escrow established pre-transaction

If the Target Employer had received a PPP loan, but prior to the transaction closing date, the Target Employer fully satisfied the PPP loan in accordance with paragraph 1 of the Small Business Administration Notice effective October 2, 2020 (the SBA October 2 Notice), or submitted a forgiveness application to the PPP lender and established an interest-bearing escrow account in accordance with paragraph 2.a of the SBA October 2 Notice, then, after the closing date, the Aggregated Employer Group will not be treated as having received a PPP loan, provided that the Acquiring Employer (including any member of the Acquiring Employer’s pre-transaction Aggregated Employer Group) had not received a PPP loan before the closing date and no member of the Aggregated Employer Group receives a PPP loan on or after the closing date. In this case, any employer that is a member of the Aggregated Employer Group, including the Target Employer, may claim the Employee Retention Credit for qualified wages paid on and after the closing date, provided that the Aggregated Employer Group otherwise meets the requirements to claim the Employee Retention Credit. In addition, any Employee Retention Credit claimed by the Acquiring Employer’s pre-transaction Aggregated Employer Group for qualified wages paid before the closing date will not be subject to recapture under section 2301(l)(3) of the CARES Act.

PPP loan is not fully satisfied and no escrow established pre-transaction

If the Target Employer had received a PPP loan, but prior to the transaction closing date, the PPP Loan is not fully satisfied and no escrow account was established in accordance with paragraphs 1 or 2.a of the SBA October 2 Notice, then, after the closing date, the Aggregated Employer Group (other than the Target Employer) will not be treated as having received a PPP loan, provided that the Acquiring Employer (including any member of the Acquiring Employer’s pre-transaction Aggregated Employer Group) had not received a PPP loan before the closing date and no member of the Aggregated Employer Group receives a PPP loan on or after the closing date.  Any employer (other than the Target Employer) that is a member of the Aggregated Employer Group may claim the Employee Retention Credit for qualified wages paid on and after the closing date, provided that the Aggregated Employer Group otherwise meets the requirements to claim the Employee Retention Credit. In addition, any Employee Retention Credit claimed by the Acquiring Employer’s pre-transaction Aggregated Employer Group for qualified wages paid before the closing date will not be subject to recapture under section 2301(l)(3) of the CARES Act. However, the Target Employer that received the PPP loan prior to the transaction closing date and that continues to be obligated on the PPP loan after the closing date is ineligible for the Employee Retention Credit for any wages paid to any employee of the Target Employer before or after the closing date.

81b. How is eligibility for the Employee Retention Credit affected if an employer acquires the assets of an employer that received a Paycheck Protection Program (PPP) loan? (added November 16, 2020)

The following rules apply for purposes of determining whether an employer (Acquiring Employer) that acquires the assets and liabilities of an entity (Target Employer) is eligible for the Employee Retention Credit. 

No assumption of PPP loan obligations

An Acquiring Employer that acquires the assets of a Target Employer that had received a PPP loan will not be treated as having received a PPP loan by virtue of the asset acquisition, provided that the Acquiring Employer does not assume the Target Employer’s obligations under the PPP loan. In this case, the Acquiring Employer will be eligible for the Employee Retention Credit after the transaction closing date if the employer otherwise meets the requirements to claim the credit. In addition, any Employee Retention Credit claimed by the Acquiring Employer for qualified wages paid before the closing date will not be subject to recapture under section 2301(l)(3) of the CARES Act.

Assumption of PPP loan obligations

If, as part of the acquisition of the Target Employer’s assets and liabilities, the Acquiring Employer assumes the Target Employer’s obligations under the PPP loan, then after the transaction closing date, the Acquiring Employer generally will not be treated as having received a PPP loan, provided that the Acquiring Employer had not received a PPP loan before or on or after the closing date; however, the wages that may be treated as qualified wages after the closing date will be limited. Specifically, the wages paid by the Acquiring Employer after the closing date to any individual who was employed by the Target Employer on the closing date shall not be treated as qualified wages. Subject to this limitation, the Acquiring Employer may claim the Employee Retention Credit for qualified wages paid on and after the closing date, provided that the employer otherwise meets the requirements to claim the Employee Retention Credit. In addition, any Employee Retention Credit claimed by the Acquiring Employer for qualified wages paid before the closing date will not be subject to recapture under section 2301(l)(3) of the CARES Act. 

Other New FAQs

On November 16, IRS also posted updated FAQs 2, 18, 21 and 21a, discussing how tribal governmental employers may be eligible for the ERC. On September 30, IRS posted new FAQs 77b and 77c addressing how to complete IRS Form 7200 to obtain an ERC refund when an employer uses a third-party payor for its employees.